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In Part 1 of this essay, we considered what it means to own a share in a company, and what a company’s management owes its shareholders. We saw how the interests of corporate management are not necessarily aligned with the interests of shareholders, and we considered the two schools of thought concerning what corporate social responsibility ought to be: whether the sole responsibility of management should be earning as much as possible for the shareholders within the constraints of law, or whether corporations have broader responsibilities to “stakeholders” and society at large. There was a period of ferment during the 1970s and 1980s that saw both the rise of an effort to improve corporate governance with respect to the financial interests of shareholders, and the rise of socially responsible investing (“SRI,” which has deep historical roots in religion), to motivate the adoption of broader corporate social responsibility. We also saw that there is no simple definition of either corporate social responsibility or socially responsible investing. The expression “ESG,” for “Environmental, Social, and Governance,” embraces activism by investors in the pursuit of both improved governance and broader social responsibility.
Part 2: Does socially responsible Investing work? And how to do it
In Aid of Corporate Social Responsibility and Good Governance
Since the 1990s, there has been a movement—a very, very small movement, and mostly foreign—to produce the data needed to evaluate the social responsibility of corporations, by integrating measures of their social responsibility into financial reporting.
Financial accounting rules have evolved over the centuries, and in every country, there is now a standard-setting authority, either governmental or quasi-governmental, that sets rules for corporate financial reporting, in quarterly and annual reports. In the last fifteen years, there has been an international organization, the International Accounting Standards Board, that has promulgated international financial accounting standards, and it has worked with the national accounting authorities to harmonize the international with the entrenched national standards. In some countries, like the U.S., the harmonization may be a prelude to replacement. Corporate financial reports, which contain much else besides the basic and required accounting data, already often incorporate text and notes reporting on the social and environmental effects of the companies’ activities.
The new movement would extend the existing national and international financial accounting standards, which already, to a small degree, quantify the unquantifiable, like “goodwill,” with new numerical data representing hard-to-measure environmental and social costs and benefits. The economist Diane Coyle has pointed out the challenges confronting such a revolution in financial accounting:[1]
Accounts are of limited use when it comes to revealing tradeoffs, particularly tradeoffs between present gains and future costs. It’s very hard to tell whether a company is, say, cannibalizing its own future revenues by gouging customers right now. But environmental sustainability hinges on those kinds of calculations. Building a new office or bringing a new product to market is bound to have some environmental impact, but it’s difficult to forecast what the effect will be. To complicate matters further, it is often difficult to measure a single company’s contribution to any particular environmental effect. Causing an oil spill is one thing, and a firm can perhaps measure its own specific emissions or pollution. But how should any given firm account for the cost of its own carbon emissions when virtually all economic activity contributes to global warming? Even if a company can accurately measure all its harmful outputs, how is it supposed to calculate the precise cost those outputs impose on everyone else? How can externalities such as climate change, which involve vast, complex processes, be represented on the balance sheet of a single corporation—even a large one?
And she concludes, “[T]he intellectual challenge of replacing traditional financial accounting is significant, but the political challenge of implementing it would be even tougher.”
Very recently, Patrick Bolton and Frédéric Samama have suggested a complementary financial means of improving corporate governance, one that, again, trusts investors to make better decisions if given help.[2] This is predicated on the supposition that managers’ short-term outlook is a consequence, at least in part, of the lack of loyalty to corporations by their shareholders. It is demonstrable that, overall, portfolio turnover has increased greatly over the last several decades (even after you subtract the activity of the high-frequency traders, who would necessarily distort the turnover statistics), which is another way of saying that investors formerly held stocks for a long time after buying them, and now they typically hold stocks for only a few months, on average, before selling them and buying others. (Until the so-called “Go-Go” years of the late 1960s, the annual turnover rate in stock mutual funds averaged around 17%; since 1980, it has averaged 61%, although most recently it has fallen to 41%, still a high number.[3] In contrast, the turnover in an S&P 500 index fund is less than 5% a year.) Bolton and Samara propose that corporations give investors an incentive to hold stocks much longer than they currently do. This incentive would take the form of “loyalty shares” or “L-shares”—the name is a deliberate nod to the vocabulary of Albert O. Hirschman—that would be warrants (not actually shares) issued to buyers of regular stocks. These warrants would be options to purchase additional shares of the issuing corporation at a favorable price after some specified time had elapsed, but only if the shareholders continued to hold the original shares for that length of time. (The span of time, in years, and the price at which the new shares could be purchased are both matters to be determined; the concept is the important thing.) Investors could still sell their shares after only a short time if they wished, but they’d have a financial inducement to hold them longer, that inducement being the possibility of buying even more shares in the same company at a favorable price. Bolton and Samama point out that when Warren Buffett rescued Goldman Sachs during the recent financial crisis, Goldman’s inducement to Buffett somewhat resembled their proposed L-shares. But this was a customized, one-off deal.
Alternatives to socially responsible investing
It goes without saying that one alternative to accomplish the same objectives as SRI is government dictation to companies that they must pursue corporate social responsibility. It really does go without saying. For all the vilification of some large corporations, there have been almost no public calls in recent decades for governments to take them over, and on the contrary, in Europe and America, there has been a steady reintroduction of captive enterprises that were owned, subsidized, or guaranteed by governments, into the natural habitat of the market. Moreover, the record of productive enterprises controlled by governments is not one that fosters faith in government-imposed corporate social responsibility. Consider the environmental record of the Soviet Union, or the governance, sustainability, and employee-friendly practices of Chinese corporations today.
This is not to say that there isn’t a role for government in the economy beyond the mere enforcement of contracts. Besides imposing standards for financial accounting and reporting, there is regulation of all sorts. The appropriate degree of regulation—proponents and opponents usually generalize about the effects of overall regulation, when they should be talking about the purpose, effectiveness, cost, and collateral results of any particular regulation—is too vast and unrelated a topic for this essay. Note that Milton Friedman, who strongly opposed most commercial regulation, simply took it as a given in his essay on social responsibility; his argument there concerned the obligations of corporations beyond what was required by law.[4] The history of financial accounting shenanigans alone is enough to suggest that good corporate governance cannot be accomplished solely through imposition from above and has to be achieved through the good faith and diligence of investors and managers, with the help of outside forces. And as for sustainability, one of the most promising approaches to control toxic emissions that must be tolerated and cannot be totally eliminated is government-organized “cap-and-trade” programs, which use market mechanisms to allocate costs efficiently. (Of course, these must be accompanied by monitoring mechanisms and laws and bureaus to detect and punish cheating.)
In the matter of corporate social responsibility, then, it is not reasonable to look to government to supplant the market. And even in socially responsible investing, government intervention through political interests can be pernicious. Politicians, who indirectly hold sway over vast public pension funds, and, like their electorate, mistake short-term financial self-interest and job security for economic savvy, will all too readily try to direct the funds’ managers to finance community projects, ostensibly because this constitutes—so they will claim—impact investing. Undoubtedly, interests other than civic good motivate such interventions. Politicians already have a very sorry record as custodians of public pensions.[5] It would be far more efficient and honest to fund community projects directly through taxes than indirectly through pension investments, whose likely shortfalls will have to be made good with taxes decades later.
Some detractors of the modern economy would rather that corporations not merely assume social responsibility but also engage in some measure of philanthropy, that is, charity and the provision of “public goods,” the economists’ term for consumable things that are available to all, and whose consumption by one does not exclude its consumption by others. Examples of public goods are fresh air, clean water, transportation infrastructure, national defense, fire-fighting, and so forth, but may be reckoned to include also parks, libraries, primary and secondary education, public art, public radio, and so forth. The list reflects one’s political perspective. (Libertarians reckon that there are few public goods other than national defense.) Many of these public goods are provided by governments, but they can also be provided by private groups. There is no bright line between socially responsible corporate behavior and philanthropy, not least because, as I noted earlier (in Part 1), some philanthropic behavior on the part of a corporation can serve its interest in profit. But still, the complaint that corporations aren’t sufficiently philanthropic arises from a fundamental misunderstanding of or objection to the way our economy works. Our world does, indeed, make room for corporations whose sole purpose is philanthropy; these are what we term “not-for-profit” corporations. (Libertarians reckon that there ought not to be not-for-profit corporations or charity; if something is worth providing, it’s worth providing for profit.[6]) They don’t have owners, and we don’t tax them. (Not-for-profit corporations are also subject to principal-agent conflicts, but in their case, the principals are the donors and sometimes the beneficiaries.) Some non-profits, like hospitals and universities, can be very similar to profit-making corporations. And there exists a small number of cooperatives and companies with alternative ownership structures, like REI and Patagonia, the makers and retailers of outdoor recreational clothing and gear, that have dual business and social purposes.[7] But by and large, when our concern is corporate social responsibility, it is with effects that are concomitant with or incidental to the pursuit of profit, rather than with the primary purpose of the for-profit corporation. If a public corporation’s primary purpose is deemed objectionable, for example, if all that the corporation does is to manufacture guns or junk food, then the socially responsible investor may not care about its degree of social responsibility; he or she will shun the corporation altogether.
Does socially responsible investing work?
Advocates of socially responsible investing generally assume and assert that it is efficacious, or will be, given enough time. These claims, as well as those of its detractors, have seldom been subjected to rigorous and unbiased tests. There are practical and psychological reasons for this: Success is difficult to measure, and, anyway, most partisans are happier and less inconvenienced by assuming the results than by measuring them.
SRI, like politics, arouses such powerful emotions that partisans, both for and against, willfully misconstrue clear statements and logical arguments about it.
Undoubtedly some, and perhaps many of those who write and agitate for stock divestment, as they try to advance various causes, are anti-capitalists, but those who engage more fully over the full range of socially responsible investing, and most certainly those who invest their own funds in conformity with notions of socially responsible investing, willingly accept and approve capitalist processes (though hypocrisy always stalks the domain of ethics). But such is the intensity of feeling about the subject, some of it generated on the one hand by self-righteousness, and on the other by a smug sense of intellectual superiority deriving from a sketchy knowledge of basic economic theory, that I fully expect my comments that follow to be misunderstood, even if I’m being clear.
The question of the efficacy of SRI is really two questions: First, does it achieve its social ends, and second, does it produce good investment results, or at least investment results that are no worse than the results of traditional investing?
The clearest single example of SRI having its desired effect may be the change of regime in South Africa. I doubt that that even the most fervent advocates of divestment from companies that were doing business with South Africa would claim that divestment alone was responsible for the change, but I’m sure that all would assert that it was an important factor. Still, a skeptic could fairly ask whether this is not post hoc, ergo propter hoc reasoning.
The financial economist Ivo Welch and colleagues, using econometric methods, in a paper published in 1999, tested the hypothesis that divestment was indeed a contributory factor in the change of regime. Well, actually, they couldn’t test the hypothesis as so worded, so the question they asked was, “how [did] prices and institutional shareholdings change[] in response to social and political pressures around the voluntary divestment decisions of U.S. firms with South African operations?” And they concluded that “the announcement of divestment from South Africa, not only by universities but also by state pension funds, had no discernible effect on the valuation of companies that were being divested, either short-term or long-term.”[8]
But this, while a cautionary addition to our understanding of the issue, is by no means a conclusive answer to the original question, which might be better answered by the methods of the historian than by those of the economist. It is at least conceivable that a true historian, the kind who slaves at the paperface deep in the archives, will find minutes from a South African government cabinet meeting, where someone tells President F.W. De Klerk that foreign corporations are threatening to pull out of the country and the economic pressure is becoming insupportable. In truth, I doubt that any single piece of documentary evidence so dispositive will come to light, but the answer may well be illuminated by the historian’s techniques in which the economist is unlearned. As Arlette Farge writes of archives, “The goal is not for the cleverest, most driven researcher to unearth some buried treasure, but for the historian to use the archives as a vantage point from which she can bring to light new forms of knowledge that would otherwise have remained shrouded in obscurity.”[9]
At one remove from measuring the actual results of socially responsible investing is the measurement of the effectiveness of ratings of the social responsibility of corporations, which might be used by investors. The standard rating system of this sort (originally provided by Kinder, Lydenberg, Domini Research & Analytics, now MSCI ESG Research) was evaluated in an academic study that found that, while this rating system’s measures of environmental “concern” had some small predictive value, its measures of environmental “strength” did not.[10]
Apart from the divestment paper, there is little published evidence bearing on the systematic effectiveness of SRI. I’m sure that many of those impact investors who are financing distinct, local projects at home or across the world are following their investments closely and know whether these projects are successful or, if not yet concluded, on course for success, but we don’t know how many of these projects fail or fall short; we don’t otherwise know if divestment efforts are having their desired effect; and we don’t know if “green” investments are supporting projects that would otherwise have got by with old-fashioned bank, stock, or bond financing.
Perhaps one reason that the effectiveness of SRI has not been evaluated further is that it can be difficult to formulate the proposition that is to be tested. Ivo Welch and Co. took one approach to this, which, as I argued, wasn’t sufficient to answer the question that we really wanted answered. And South African divestment was an easy case: We knew the ultimate goal of this form of SRI. We also knew the intermediate goals: Pressuring corporations into changing their ways of doing business in South Africa so that they would promote the dismantling of apartheid, or coercing them to withdraw altogether from doing business in the country. Welch has argued, by extrapolation from his analysis of the South African divestment campaign, that any divestment movement is likely to be ineffective.[11] It’s an argument worth considering, but it’s premised on one ambiguous case.
Now consider the most prominent single movement today from within SRI’s range of activities, divestment from fossil fuel companies. We know the ultimate goal: Replacement of the fossil fuels on which modern civilization relies with renewable sources of energy. But what is the proximate, achievable goal? It is often said that the purpose of this current divestment movement is to “delegitimize” fossil fuels.[12] What does this mean? Clearly, it doesn’t mean that oil companies’ corporate charters will be revoked, or that they will be delisted from stock exchanges. Does it mean that their stocks and bonds should no longer be regarded as appropriate vehicles for investment? If so, then this is tautologous: The goal of divestment is divestment. Does it mean that the use of fossil fuels will be discredited? If so, then shouldn’t advocates forgo driving cars with internal combustion engines and persuade others to do so, instead of or in addition to promoting divestment? After all, unless you’re a denier of anthropogenic climate change, fossil fuels have already been pretty well discredited in your eyes, and there may not be much room for further discrediting. If we can’t pin down what delegitimation is, then we can’t measure our progress toward achieving it.
There is a positive alternative to “delegitimation” as a purpose of divestment, and I will turn to this when I consider the investment results of socially responsible investing.
More fruitful for judging the effectiveness of SRI might be an enumeration of the achievements of Ceres, which works with both investors and corporations to promote environmental sustainability through agreed best practices, which they have codified as the Ceres Principles (for which, see Appendix A). With monitoring by Ceres, the participating corporations in its “network” may with some assurance be regarded as maintaining best practices for sustainability. That doesn’t mean, though, that they are good citizens along all dimensions of corporate social responsibility. For example, both Coca-Cola and Pepsico, two of the world’s largest producers and purveyors of junk food, are in the Ceres network.
Beyond the question of whether socially responsible investing has a practical effect, at least one scholar—not a financial economist, but a sociobiologist—has argued that socially responsible investing is ipso facto impossible, if by SRI one means investing for the greater good of humanity without the prospect of superior returns.
Beginning with Charles Darwin (1809-1882) himself, biologists and philosophers have struggled to explain altruism, that is, self-sacrifice for others, in the context of natural selection. “How can we reconcile seemingly altruistic behavior, where there is no obvious individual advantage, with [the] notion of natural selection maximizing individual fitness? Suppose we have a group of altruists in a certain area. While these altruists will do well among themselves, they will always do worse than the ‘freeloaders’ who accept the benefits bestowed by the altruists without incurring any cost. Thus, altruists will always be subject to invasion by selfish types and should decrease to the point of extinction.”[13]
Sociobiologists extend the models of natural selection to the social behavior of not just animals, but also human beings. Richard Alexander (1930- ), a sociobiologist of the most uncompromising kind, has written thus:
It is difficult to imagine that anyone invests in the stock market for altruistic reasons; perhaps no one invests in anything at all (except relatives) without expecting (not necessarily consciously) phenotypic rewards that include some kind of interest on the investment.[14]
If one supposes that Bill McKibben campaigns against investments in fossil fuel companies in order to improve the chances of survival of his descendants (from rising ocean waters?), the argument, though narrow, may be true, in a way that is nearly trivial. But it requires sophistic gymnastics to adduce the (not necessarily conscious) self-interested motives for, say, divestment from tobacco companies.
Can it achieve good investment returns?
Because socially responsible investing is, fundamentally, investing and not philanthropy, its returns should matter, and the historical returns ought to be evaluated. In contrast to the measurement of social results, there have been many studies of the investment results of socially responsible investing, probably because investment returns are much more readily accessible and tractable to numerical analysis. But there are pitfalls to such analysis, as there are to any analysis of the performance of any kind of investment practice.
A. The Arguments that Socially Responsible Investing Will Outperform
I have heard proponents of SRI assert, maybe after a glance back at the suggestion that some socially responsible activities can be justified as contributing to shareholder value, that companies will, in the long run, do well by doing good; that the stocks of socially responsible corporations will perforce prove also to be superior investments. Perhaps. I don’t do the eschatology of investing. If you want an opinion on this, you’ll have to consult your spiritual advisor.
Proponents of socially responsible investing sometimes, when advocating, in particular, divestment from fossil fuel companies, put forth a variant of the proposition that companies that do good will be superior investments. Casting off the halo of moral superiority and putting on the mien of hard-headed investment analyst in order to face down the bean-counters (in a manner that would warm the heart of Richard Alexander), they assert that because fossil fuels must inevitably be phased out, the stocks of fossil fuel companies must in consequence be poor investments. This argument is no different in kind—I repeat, no different—from any tale that is told to make a case for or against any other kind of stock investment. Similar arguments are conjured up every moment of the business day: Because fresh water is becoming increasingly scarce for the world’s growing population, the stocks of companies that bottle or filter water will be superior investments; or, the younger generations have turned away from the social media of their parents, and Facebook must therefore inevitably fall into a long-term decline; or, the aging population will prove a boon to the producers of geriatric products. Scheherazade couldn’t hold a candle to the professional and armchair investment strategists who tell such tales. But they are, far more often than not, wrong. They are wrong not because their forecasts of events do not come to pass, but wrong because their stock forecasts don’t pan out. As I have explained in an earlier essay, history and rigorous academic research have repeatedly shown that investment analysts and strategists cannot consistently outperform index funds.[15] But they always have an excuse. (“For of all sad words of tongue or pen, / The saddest are these:” “I was too early.”) Even if they appear to outperform, additional riskiness of the investments is usually propping up the façade of superior returns.
How could fossil fuel companies prove to be good investments? There are two ways. First, regardless of a dim outlook for them, their stocks might still, at current prices, be undervalued, and so (the morally indifferent investor hopes) will go up. I’m not saying that they are now undervalued, which can be determined only through financial analysis and market pricing, but only that it’s a possibility. Second, the companies themselves might evolve in ways that keep them successful. The senior executives of oil companies may be venal, dishonest, and short-sighted, but I am quite sure that most are not stupid or ill advised by their corporate strategy departments. It’s conceivable that they define their firms not as oil companies but as energy companies, and if they see the energy markets changing for the long term, they will transform themselves into providers of energy from sustainable sources. Perhaps they’d even buy up the current solar energy companies. I’m not making a forecast; I’m only pointing out a way in which lazy forecasts of the decline and fall of big oil could be mistaken. Earlier, I mentioned that I could conceive of one practical consequence of the move toward divestment, given that “delegitimation” seemed a hollow objective. And that is that the divestment movement, the threat of exit, might push oil company executives faster toward building up their (already existing) divisions dedicated to sustainable energy production.
Mind you, as an investment proposition, the coal industry does look like the pits; the April 2016 bankruptcy filing by Peabody Energy Corp, the largest private coal mining company in the world, suggests that boosters of this especially dirty fossil fuel may be mistaken.[16] And when the Rockefeller Brothers Fund announced its plan to divest from fossil fuel companies, it said that it would begin with coal (and tar sands).[17] It will take more than the declaration by the 2016 Republican Party platform that coal is “clean” to reverse the industry’s fortunes.[18]
B. The Arguments that Socially Responsible Investing Will Underperform
Opponents of socially responsible investing as a general proposition (as distinct from critics of particular objectives and ethical standards) usually rely on one or the other of two basic economic suppositions, which conflict with each other. Beyond these basic ones, there is a third supposition that is only somewhat distinct from one of the others. And last, there is a subtle but compelling argument, not mere supposition, that SRI will underperform through the paradox that it becomes a victim of its own success.
The first supposition is that the markets are completely efficient in pricing stocks and bonds, and that the classical models of financial economics, in particular, the Capital Asset Pricing Model (CAPM), correctly describe the behavior of stock prices. (Again, in this context, “efficient” means that the market prices are correct at all times and for all stocks and bonds.[19])
In order to appreciate this supposition, you must also appreciate that returns and risks are related, both for individual stocks and bonds, but much more so, for portfolios of stocks and bonds. That there is such a relationship I take to be correct and nearly axiomatic. You cannot evaluate returns without taking into consideration the concomitant risk.
The undeniable implication of this supposition is that the entire stock market optimally balances return and risk, and an investor, to the extent that he invests in stocks, should hold stocks in proportions that represent the stock market as a whole. That is, he should invest in an index fund, and a “total market” index fund would be even better than an S&P 500 index fund, which consists of the stocks of large companies only. And, to the extent that any other portfolio of stocks deviates from the market’s proportions of values, that portfolio will have a suboptimal tradeoff of return and risk. A socially responsible portfolio will, therefore, also have a suboptimal tradeoff of return and risk.
But you must be either touchingly naïve or fanatically dogmatic to cling to this supposition, beautiful as the CAPM is. I’m reminded of the old expression, “I love Plato, but I love the truth more.” No one, not even financial economists, believes that the Capital Asset Pricing Model perfectly describes the stock market, and few, if any, believe that the new and improved models that also integrate return and risk are perfect descriptions. Once we grant that these models don’t perfectly fit reality, space opens for the possibility that a portfolio of socially responsible investments will not underperform the market.
The second supposition of opponents of socially responsible investing is a direct contradiction of the first. It is that the markets are not efficient, and that there exist many talented investment managers who are able to identify stocks that will outperform the market as a whole.
Building upon this assumption, these opponents suggest that, by imposing restrictions on such managers, and not letting them choose the best from among the entire marketplace of stocks, socially responsible restrictions will prevent them from investing in some stocks that they might otherwise have chosen for investment reasons alone, and their investment performance will suffer.[20] Their portfolios might not underperform the market as a whole, but, given that outperformance, if it can be achieved, tends to rely upon the cumulative effect of a small average increment above the market’s returns, the result of socially responsible investing would, by this argument, be little better than an index fund—even for talented investment managers.
This criticism has some validity, but the underlying supposition is weak, because there are very few talented managers. Also, the argument fails to take into account the probabilistic nature of investing. It is entirely possible that, in some proportion of cases, the restrictions would prevent the talented managers from making mistakes, and might therefore actually increase their degree of outperformance.[21]
There is a third objection to socially responsible investing that is loosely related to the first supposition, but relies more on an argument vaguely resembling reductio ad absurdum. The critics who argue this way point out that if you were to eliminate from consideration all companies that are objectionable on grounds of social irresponsibility, you would be left with a small pool of investment candidates that would be ridiculously undiversified, and therefore subject to much greater risk than a typical prudent portfolio, and without grounds for thinking that there would be a commensurately greater return. The absurd in this argument is neither logically impossible nor even entirely fanciful. Many years ago, I met a professional investment manager who told me that his firm practiced socially responsible investing by investing primarily in the health care sector, which, he reckoned, provided an undeniable social good. Hardly anyone today would regard a portfolio consisting almost entirely of big pharma, medical device companies, and hospital companies to be socially responsible, let alone prudently diversified. But I believe that, on the whole, many professional investment managers today who specialize in socially responsible investing are fully aware of this pitfall and have ways of complying with their ESG criteria that allow them latitude to diversify.
Last, some economists have argued that if social norms compel some investors (or organized classes of investors, like pension funds, that can be compelled by outside forces) to shun the stocks of some companies, because, regardless of their economic characteristics, these companies are misfits, then the prices of these stocks will be low when compared with their intrinsic economic value (even after due allowance for their riskiness as investments). That is, socially responsible investing ought to suppress stock prices, at least those of some companies. If that happens, then those companies should find that financing is more expensive than it would otherwise be. And, paradoxically, that necessarily means that these companies should, on the whole, reward investors with higher returns (which can be the mirror image of more expensive financing). So, SRI would be the victim of its own success, in that investors who do the opposite of SRI would have better investment results.[22]
C. The Evidence
If theory can’t decide for us whether socially responsible investing will outperform, underperform, or just match the returns of the stock market as a whole, we have to turn to historical evidence, which is abundant but miscellaneous.
There are two critical issues that must be taken into account when evaluating this evidence. First, as I noted earlier, returns cannot be considered without regard to the associated risk. There is always a tradeoff. The investment laurels do not go to him who has the highest return, but to him who has the highest return for a given degree of risk or risks. And even so, different investors may prefer different tradeoffs between return and risk. Second, because socially responsible investment managers have so many different criteria to define socially responsible corporate and government behavior, one cannot make a single general statement about the investment returns of SRI. Some SRI investment managers may have superior returns, some may match the market, and some may have inferior returns, because of the different ways that they circumscribe the universe of investment possibilities, even regardless of their analytical acuity or lack thereof with regard to investment matters, as distinct from social matters.
You may recall Piketty’s summary of the modest results of the German “stakeholder model,” quoted above (in Part 1). But although “corporate social responsibility” is a capacious expression that can subsume more than just the satisfaction of interested parties who don’t own stock, it tends not to include, as I said earlier, the maintenance of employment and support of workers. Furthermore, his statement that the “stakeholder model” results in lower corporate valuations tells us little about investment returns, except that they build on a lower base, and that they won’t outstrip the returns in the “shareholder model” (because, if they did, then the valuations wouldn’t be lower). So we need to look elsewhere for information about the returns to socially responsible investing.
One of the earliest studies of the investment results of socially responsible investing was carried out by Lloyd Kurtz and Dan diBartolomeo in 1996. This was updated with a paper published in 2011.[23] They compared the past investment performance of a broad collection of U.S. stocks, constrained only by generally agreed social criteria, with the entire U.S. market. By teasing apart the components of risk, by means of sophisticated analytical techniques and a financial risk model embodied in software, they found that whenever there were differences in returns between these two groups of stocks (the total U.S. stock market and its subset, consisting only of stocks of socially responsible companies), these differences could be explained by well-known sources of financial risk. That is, socially responsible investing did not make its own distinctive contribution, separate from other components, to overall investment risk. This discovery implies that anyone concerned about investment risk in a broad socially-responsible stock portfolio, beyond the inherent risk of the stock market as a whole, could control this additional risk by carefully rejiggering the weights placed on the different stocks in the portfolio (through the use of appropriate software for portfolio analysis and construction). Presumably, if a socially responsible portfolio can adjusted so that its risk is more or less the same as that of the broad market, then the returns of an SRI portfolio ought to be close to those of the market. This implication of the paper is an appropriate response to the criticism that SRI portfolios must inevitably be poorly diversified.
There has been much research since.
A recent meta-study[24] of 41 other academic studies of the relationship between companies’ policies on sustainability and corporate governance, on the one hand, and stock returns on the other, found that, on the whole, the greater the measure of a firm’s sustainability practices, the greater its stock’s returns (though not all of the individual studies demonstrated this), and that there was also a positive relationship between measures of good corporate governance and stock returns. Neither relationship should exist if the market prices stocks efficiently, but the relationship between corporate governance and returns may be less surprising to those who believe that the market prices stocks correctly.
This meta-study cannot be definitive, however.[25] For one thing, the co-sponsor of the study was an investment management firm that specializes in ESG investing and therefore had an interest in the conclusions.[26] Those 41 studies may have been cherry-picked from a larger set. They do not include the Kurtz-diBartolomeo paper, whose results suggest, although they do not prove, that socially responsible investing ought not to produce an excess “socially responsible” return.[27] Also, I would have to check each study—and I haven’t—to confirm that it reasonably weighed returns against their concomitant risk. You can’t assume, just because a study is “academic,” that the returns were appropriately adjusted for risk.[28]
An even more recent study has found that the higher a firm ranks on measures of good corporate governance—that is, on indications that the shareholders are able to exert due influence over the managers—the more highly it tends to rank, also, on measures of corporate social responsibility. And, in turn, those firms that rank highly on measures of both good corporate governance and corporate social responsibility also tend to have better stock returns (after allowance for risk).[29] In other words, this study found that, contrary to what Milton Friedman had argued a priori, a bias toward corporate social responsibility has tended to be associated with both good corporate governance—that is, regard for the interests of shareholders—and superior returns.
In contrast, a rigorous study has looked at so-called “sin stocks”—the stocks of tobacco, alcohol, and gaming companies—to see whether, because they were shunned by institutional investors, they found it more difficult to obtain financing and therefore, paradoxically, had to offer the prospect of superior returns.[30] It found that this was, in fact, the case; sin stocks had superior returns. (The authors note that this contrasts with the result of Welch et al. in their study of the stocks of companies doing business in South Africa.)
So, the preponderance of evidence, but not all of it, suggests that investing in the aggregate of stocks of socially responsible companies has not, contrary to the expectations of skeptics, turned out worse than traditional investing. But one should not fall prey to the logical fallacy of division and thereby commit the vulgar statistical error of deducing from this generalization that all socially responsible investment managers will have acceptable performance, any more than all traditional investment managers do. Remember, too, that there is some heterogeneity in the definition of social responsibility. And, not entirely incidentally, the Ave Maria family of morally responsible investment funds has had abysmal investment returns.[31]
I confidently predict that the social and investment effectiveness of pressures for good corporate governance and for corporate social responsibility will continue to be investigated and hotly debated, both in the academic world and in the larger popular culture of investing. For now, the safest conclusion is that socially responsible investing, carried out in a sensible fashion, with a broadly diversified portfolio, need not detract from the returns that could be achieved by an index fund (even, maybe, after allowing for its higher fees).
How to go about ESG investing
The conundrum that began this essay (in Part 1) becomes less apparent and less perplexing when you realize that the framework for investing need not require acceptance of the world exactly as it is, as long as you also accept that your ability to change it through investing, both on your own and by collective action with other investors, is limited. You still have to work with the four elements of portfolio management, namely, risk, return, the complex of relationships among returns, and tolerance for risk. But in doing so, you can both circumscribe the set of possible investments for your portfolio, to isolate yourself from those investments that are objectionable on ethical grounds (and hope that, by doing so, you may in some small way nudge the world to change), and also seek out investments that you might otherwise have overlooked (like green bonds, or private opportunities for impact investing). You can also, when you hold a stock, try to exercise your voice with the threat of exit, though, even if you’re a major shareholder in a company, you have to accept that you’ll be ignored. But if you are heard, there’s a chance that you can even improve the financial return that you’ll earn.
So ESG or SRI investing is a practical choice. But such investing is, in general, harder than traditional investing.
As I’ve said before, just as anyone can teach herself to do her own plumbing and carpentry, so anyone can invest her own money well, if she takes the trouble to learn the fundamentals of investing from well-designed books or courses (as distinct from relying on financial folklore, television, and books that purport to have systems for beating the market).
And so the ESG investor, like the traditional investor, can invest on her own. But she not only has more to learn about the social issues on which corporate behavior may have some bearing, she also has much more to research for each investment: information about corporate governance and records of environmental impacts and product sales that generally cannot be found in financial statements and common databases.
This requires a lot of time. And just as most traditional investors prefer to hire a professional to do the investment work for them, so ESG investors have even more incentive to hire a professional. But ESG investors must still consider what social issues they prefer their professionals to address. The professionals don’t choose your ethics for you. Not every ESG professional manager shares your social concerns and criteria.
The ESG investor, even if relying on a professional investment advisor, must know her own mind in order to select a compatible professional. She must have coherent ideas about corporate social responsibility. She may default to the Ceres Principles and/or the Global Sullivan Principles, but then again, these may not conform with her own ethical standards. A professional can help clarify the investor’s thinking and advise on what restrictions on the portfolio are practicable while still offering the prospect of acceptable returns (after allowance for risk).
In investment management, emotion ought not subvert reason. Too often it does. Emotion can inform reason, and through it guide rational, self-interested decisions. But the behavioral economists have shown us how unreason motivates those who invest in the traditional way, running counter to both self-interest and the optimal allocation of financial resources for society. The threat posed by the intrusion of unreason is different, and worse, to the self-interest of those who bring ethical considerations to bear on their investment choices.
A wise advisor should have not only standards for social responsibility, but also a way to balance the ill against the good in corporate behavior, and in the policies of foreign governments that host investment opportunities. One mistake that is easily made by a non-professional who has good intentions but little familiarity with socially responsible investing is to set absolute, inflexible criteria.
You may reject outright some corporations, like tobacco companies, but other cases are more ambiguous. Take, for example, Monsanto, which some activists, who object to plant hybridization, and also to its sales and licensing practices, love to hate. Surely some good can be said about its increasing the yields of harvests? You cannot expect any corporation to be entirely socially responsible, any more than you can expect a human being to exhibit moral perfection. If you will settle for nothing less than perfection, then you shouldn’t invest, just as you shouldn’t marry.
The Ceres organization, for one, when it approves a corporation as a member of its network, does weigh the ill against the good. A competent investment advisor who specializes in SRI also has processes for weighing these tradeoffs.
Investors who prefer that their portfolios be managed in a socially responsible fashion will be reminded that the rich are different from you and me: They have more options. Those with the most financial assets can afford to hire investment managers who will custom-build portfolios of securities issued by socially responsible companies and well-governed countries that fit those investors’ particular social criteria. They also have access to private equity opportunities and special impact-investing projects around the world. The managers have the analytical tools for adjusting the proportions of the traded stock and bond holdings in order to balance the risks, so that the overall portfolio isn’t significantly more risky than a similar more conventional portfolio.
But most investors, even small organizations with endowments of a couple of million dollars, are too small to be able to afford this level of custom investment management. They do not have the option of an investment plan that is perfectly tailored to their ethical concerns. They must therefore rely on more-or-less packaged investment plans. Some will have portfolios comprising individual stocks and bonds (chosen according to standards set by the firms that manage their portfolios). Fortunately for them, too, there are mutual funds and exchange-traded funds (ETFs) that are managed according to ESG standards. These can be and often are combined into portfolios, perhaps with a customized asset class allocation, but necessarily without being precisely tailored to the ESG preferences of the client.
ESG investing tends to be more expensive than traditional investing; that is, the management fees are higher. (Because there is a range of pricing for all kinds of investment management, this is only a broad generalization.) This is true of mutual funds and ETFs, as well as of individual portfolios. There are two reasons for this: 1) ESG investing requires more research, and therefore costs the manager more than traditional investing, and 2) ESG investing, although becoming more common, is still a specialty and premium product, and so can command a premium price in the marketplace of investment management. The better ESG investment firms employ staff specifically for research into corporations’ social responsibility and governance, alongside the staff who specialize in traditional financial research.
What about passive investing, that is, investment portfolios that follow a benchmark, like index funds? In earlier essays,[32] I have repeatedly implied that it is seldom worthwhile to pay for the ingenious selection of individual stocks for their prospects of superior investment returns, and it therefore makes financial sense to invest through low-cost indexing. There are, indeed, some index-like funds for ESG investors. Of course, for there to be index funds, there have to be indices. There are indices consisting entirely of stocks that satisfy some ESG criteria without incorporating any judgment of their investment prospects. The funds and ETFs that track these indices have lower costs, because they trade their holdings only infrequently, and they require hardly any financial research.
(Strictly speaking, a true index fund should follow the entire stock market, and originally, the S&P 500 index was intended to represent the entire U.S. stock market, but it later became a benchmark for just the largest companies; there are now more comprehensive indices than the S&P 500. In practice, however, there are benchmarks for countless subdivisions of the stock market, and funds that are designed to produce the same returns as these benchmarks. ETFs were originally designed to track benchmarks, and even now, there are only a few recent exceptions to this rule.)
One of the oldest and the best-known such benchmarks is what was formerly called the Domini 400 Social Index, begun in 1990 and now overseen by the firm MSCI; its new name is the MSCI KLD 400 Social Index (consisting of 400 stocks).[33] MSCI oversees, besides, a large number of specialized social and governance benchmarks.
One prominent ESG index fund is the Vanguard FTSE Social Index Fund (VFTSX). This has an expense ratio of 0.25% (that is, they charge you approximately one quarter of one percent of your money in the fund each year). This puts it among the least expensive SRI mutual funds. In contrast, the Vanguard 500 Index Fund (in its Admiral share class, VFIAX), a traditional index fund that, among Vanguard’s funds, bears closest comparison to the Social Index Fund, has an expense ratio of 0.05%. (The Vanguard FTSE Social Index Fund follows a benchmark created by FTSE Russell, which, like MSCI, offers a variety of socially responsible indices.) This exemplifies the difference in cost, and these are the least expensive funds among their peers. Of course, if the Vanguard Social Index Fund, before expenses, averages a better return than the S&P 500 index fund by at least 0.20% per year, then there is no cost to choosing the former over the latter.
Until recently, there were very few—basically two—ETFs that were designed to accommodate socially responsible investing. Since 2015, there seem to be new ones announced nearly every week, matched to different benchmarks representing a huge diversity of definitions of “socially responsible.” If you want, you can now buy, for example, an ETF from State Street Global that represents all of the S&P 500, minus just the oil companies. Even Goldman Sachs has issued an SRI ETF.[34] Among these ETFs, the incremental cost of socially responsible investing over the cost of traditional index investing is even greater than it is among mutual funds. For example, DSI, one of the oldest SRI exchange-traded funds (and designed to track the MSCI KLD 400 Social Index), has an expense ratio of 0.50%, as compared to Vanguard’s VOO, which tracks the S&P 500 and has, like Vanguard’s index mutual fund, an expense ratio of 0.05%. These ETFs are also surely subject to the shocks that all ETFs are heir to, in that, especially if they are very small and thinly traded, their prices may diverge widely from the values of their underlying stocks. I shouldn’t be surprised if some of these ETFs are eventually liquidated for failure to attract enough investment money.
Fiduciary responsibility
There is a critical consideration before you choose to have a portfolio managed according to ESG criteria: If the portfolio is not your personal financial account, but, rather, you stand in a fiduciary relationship to the portfolio, which is for the benefit of others—like, say, a pension fund or a trust—you may be legally liable if, without the explicit consent of the beneficiaries, you knowingly choose ESG criteria that likely cause the portfolio to perform less well than one managed in a traditional fashion. That is because, as a fiduciary, you are most likely required to achieve the best possible return consistent with the beneficiaries’ risk tolerance, and social responsibility be damned. You must be absolutely clear about the legal standing of the portfolio and your relationship to it.
This was a contentious issue back in the 1980s, during the campaign for South African divestment. The law governing pensions, ERISA (the Employee Retirement Income Security Act of 1974), requires that those charged with oversight of pension funds try to get the best returns consistent with risk, and the pension fiduciaries feared that if divestment from the stocks doing business in South Africa produced lower returns, they could be held criminally liable. Robert Monks, the corporate governance activist gave his opinion:
Can you justify social investing for a lower return under ERISA or divestment on the grounds that it affects a small portion of a large fund? The answer is no. Can you recast divestment as an economic question and arrive at the same answer as when you viewed it as a social question? The answer is yes. You might, for example, say that contempt for the Sullivan principles was an indication of a management so woefully out of touch as to cast doubt on their capacity to manage such a large enterprise.[35]
But even when you can rigorously argue that there are legitimate economic grounds for including the socially responsible investment in the portfolio under your care, you must reckon the likely higher costs into your argument.
Leaving the world as it is
The point of socially responsible investing need not be changing the world. Many socially responsible investors have the serenity to accept that they cannot change it. Rather, they prefer not to earn investment returns from companies or governments that they consider immoral and distasteful. This is likely the attitude of those religious investors I’ve mentioned who shun the stocks of companies whose products serve purposes that violate the tenets of their religions. An observer may question the moral imperatives or choices of these investors, but—it seems to me—if one grants those moral imperatives or choices as motives, then the shunning of the stocks (and bonds) is beyond criticism (as long as the investor evaluates the companies’ and governments’ behavior with respect to the given moral standards fairly and consistently). Indeed, when asked for advice on socially responsible investing, I always suggest that this attitude ought to be the basis for deciding whether to pursue that course. The assumption of this attitude doesn’t imply that the investors should not hope that their choices will affect the world; but that hope is not their primary motivation.
This is not the exercise of voice, and exit is not wielded as a threat. The investor simply exits. This irenic approach to socially responsible investing is not one that sets the juices flowing. Activists, by definition, are people who require that something be done, and it’s difficult to motivate student demonstrators who are clamoring for the divestment of oil company stocks from their universities’ endowments if their cause is just the avoidance of moral stain. But it is an approach that is above reproach.
When the Rockefeller Brothers Fund, whose initial wealth came from the oil industry, announced, in 2014, that it was divesting from fossil fuel companies, its statement did not claim that this action would result in change or would delegitimize anything. Rather, it implied that this divestment would be consistent with the foundation’s larger social commitments, in particular to sustainable development.[36]
Of course, if an investor does not expect her socially responsible investments to have an effect, then she’s not engaging in impact investing. But if opportunities to engage in effective impact investing become available, that is, opportunities that might result in beneficial effects on a community, then the investor may complement passive socially responsible investing with impact investing.
Conclusions
Socially responsible investing, or, more broadly, environmental, social, and governance investing, has long since outgrown its heritage as an enthusiasm of a few pious religious investors and quixotic shareholder activists. Although not quite mainstream, SRI and ESG investing have become a powerful current running in parallel with the mainstream. And the new investors are not, on the whole, mistaken: Skeptics are wrong if they argue that the socially responsible and governance-conscious portfolios must inevitably produce inferior results. But the beneficial possibilities of ESG investing in no way elevate its adherents above the same carelessness, intellectual deficits, and knee-jerk emotional reflexivity that afflict traditional investors. Furthermore, while traditional investors have excellent default options, namely, index funds, there are no such easy choices for the ESG investor, except simulacra of index funds that reflect differing ethical preferences. ESG investing demands serious ethical reflection, economic reason, and analysis of choices.
Adam Jared Apt, CFA, is a financial advisor and the owner of Peabody River Asset Management, based in Cambridge, MA.
Footnotes and Appendices
[4] Friedman, op.cit. (in Part 1): “This argument [that the company must take on social responsibilities that the government does not compel it to do] must be rejected on grounds of principle. What it amounts to is an assertion that those who favor the taxes [he means not governmental taxes but managers’ deductions from corporate profits] and expenditures in question have failed to persuade a majority of their fellow citizens to be of like mind and that they are seeking to attain by undemocratic procedures what they cannot attain by democratic procedures.” Friedman did not consider the possibility that a company might pay legislators to write laws in its favor, but this would not, by and large, vitiate his argument; if corporate management buys laws favorable to its profits, it will not then turn around and exercise social responsibility beyond what those laws require. There ought, however, be concern about its buying laws concerning corporate governance that favor management over shareholders.
[5] The underfunding of pensions is a topic entirely separate from the subject of this essay. Suffice it to say that politicians do not merely fail to put aside enough money to fund public pensions, but they also engage in prestidigitation, abetted by accounting firms and public union officials, to hide the vast extent of the underfunding. For one among many papers that try to quantify this, see Robert Novy-Marx and Joshua Rauh, “Public Pension Promises: How Big Are They and What Are They Worth?” Journal of Finance, vol. LXVI, no. 4 (2011), pp. 1211-1249, which finds that, if states do not have the option of defaulting on their pension obligations, then, as of June 2009, these obligations were worth $4.43 trillion (in present value), versus $1.94 trillion actually held by the pension funds. And if you think that more than doubling the assets should be easy, consider how you might do this with low-risk investments, when the obligations are all the time growing, the assets are concurrently being paid out, and state legislatures are adding top-up contributions only fitfully.
[6] For a proto-libertarian argument against charity, see Simon Newcomb, Principles of Political Economy (New York: Harper & Brothers, 1886), chapter 7, “Of Charitable Effort,” wherein he argues (pp. 526-527) that when “a gentleman is implored for relief by a repulsive piece of humanity,” the willingness to respond constitutes a demand for beggary, which the beggar is supplying. “From an economic point of view the gentleman pays the beggar for being poor, miserable, dirty, and worthless.”
[7] Such firms, if publicly held (unlike Patagonia), tend not to have great longevity as independent organizations. See Moon, op.cit. (in Part 1), p. 11.
[8] The quotation of the conclusion is from Ivo Welch, “Why Divestment Fails,” New York Times, op-ed., 9 May 2014, and the quotation of the hypothesis is from the original paper that his article cites, Siew Hong Teoh, Ivo Welch, and A. Paul Wazzan, “The Effect of Socially Activist Investment Policies on the Financial Markets: Evidence from the South African Boycott,” Journal of Business, 1999, vol. 72, no. 1, p. 38. The late Journal of Business is missed; it published several classic papers on financial economics when there were few other venues for such work.
[11] See the first article cited in note 9.
[12] For example, Alan Rushbridger has written that the goal of divestment is “to delegitimize the business models of companies that are using investors’ money to search for yet more coal, oil and gas that can’t safely be burned. It is a small but crucial step in the economic transition away from a global economy run on fossil fuels.” (Alison Langley, “The Guardian’s Alan Rusbridger: putting fossil-fuel divestment on the agenda,” Columbia Journalism Review, 28 April 2015.) See also the interview with Naomi Klein, in Climate and Capitalism, 10 May 2015: “[W]e also need more of a grassroots strategy, such as we’re seeing with the fossil fuel divestment movement, which is about delegitimizing these companies.”
[13] Daniel Deen, Brian Hollis, and Chris Zarpentine, “Darwin and the Levels of Selection,” in Michael Ruse, ed., The Cambridge Encyclopedia of Darwin and Evolutionary Thought (New York: Cambridge University Press, 2013), p. 203.
[19] For the CAPM, see the essay referenced in note 16.
[20] Not long ago, I was a referee in an online dispute over a published paper purporting to demonstrate the costs of socially responsible investing. The premise of that paper was not just that the talented investment manager would not, because of SRI restrictions, be able to choose all the superior stocks that he might other identify, but also that he would fill out the portfolio with stocks that he would otherwise have avoided. I doubt the plausibility of the second part of this premise. For what I consider the definitive analysis and critique of this paper and its argument, see Paul A. Ruud, “Revisiting ‘The Cost of Socially Responsible Investing,’” AdviserPerspectives, 30 July 2013.
[21] For a summary of the technical explanation of this statement, see the paper by Ruud, above.
[22] See the paper cited in note 31, below.
[23] Lloyd Kurtz and Dan diBartolomeo, “The Long-Term Performance of a Social Investment Universe,” Journal of Investing, Fall 2011, Vol. 20, No. 3. I am attempting to put into everyday language some of the terms of art of risk management as used in the paper. For contemporary analyses, from the 1980s, of what the investment performance of South Africa-free portfolios might be, see Massie, op. cit., p. 534 and notes.
[25] There is an apparent contradiction in the meta-study’s results: Its section 3 (pp. 21-28) finds that SRI firms experience lower cost of financing, which implies that, by and large, they should produce lower, not higher stock returns. I suspect that this comes of drawing sweeping conclusions from many studies that looked at very different sets of companies, selected by very different criteria that could all come under the vague heading of “ESG,” over heterogeneous spans of time. Logically, as the price of the stock is bid up in the market, the cost of financing the company’s operations should decline, until the price is high, future returns are low, and financing is inexpensive.
[26] Kurtz also works for a socially responsible investment manager, but because I know his co-author and knew him at the time of the original study, I have confidence in their paper’s conclusions.
[27] If the paper had found that there was a distinct “socially responsible” risk factor—which it did not—that would have suggested a distinct return attributable to that risk.
[28] At the time of this writing, what is perhaps the most recent such study looks at seven large SRI stock funds. (The list is the result of screening a much larger number of funds using criteria of size, longevity, and the availability of suitable benchmark funds for performance comparison.) The study’s results were mixed and depended upon the alternative ways that returns were adjusted for risk. Some funds outperformed their benchmarks, some did not. See Larry Swedroe, “Sustainable and Responsible Investing: Is There a Price to Pay?” AdvisorPerspectives, 8 February 2016.
[29] John Manuel Barrios, Jr., Marco Fasan, and Dhananjay Nanda, “Is Corporate Social Responsibility an Agency Problem? Evidence from CEO Turnovers,” working paper, July 2015. Note that the rating that, in this study, is used to measure corporate social responsibility is the same one that was found in the study cited in note 11, to be a good measure of past, but not a good predictor of future CSR. Also note that, unlike the Kurtz-diBartolomeo paper, it assumed that only aggregate risk matters.
[30] Harrison Hong and Marcin Kacperczyk, “The Price of Sin: The Effects of Social Norms on Markets,” Journal of Financial Economics, 2009, vol. 93, no. 1, pp. 15-36. Note that this implies that there exists a distinct “sin” risk factor, contra diBartolomeo and Kurtz. The paper presents the history of the academic arguments that stocks that are shunned because of social norms should have higher returns, and it cites related research papers. This paper is also not cited in the meta-study by Clark, Feiner, and Viehs, op.cit.
[31] See note 25 of Part 1.
[33] I have been given reason to believe that in its early years, it was not a true index, but rather a very large model portfolio, inasmuch the choice of stocks included in the index reflected judgments not just of the companies’ compliance with social and governance standards, but also of their financial prospects. A true index or benchmark does not reflect judgments of what will be successful investments. But MSCI knows how benchmarks should work, and it is now a true benchmark.
[35] Massie, op.cit. (in Part 1), pp. 538-539.
[36] “In working to align our endowment investments with our mission and programs, we will adhere to the longstanding mandate of our board of trustees that our assets be invested with the goal of achieving financial returns that will enable the foundation to meet its annual philanthropic obligations, while maintaining the purchasing power of the endowment.” Rockefeller Brothers Fund Divestment Statement, op. cit.
Appendix A: The Ceres Principles
- Protection of the Biosphere
We will reduce and make continual progress toward eliminating the release of any substance that may cause environmental damage to the air, water, or the earth or its inhabitants. We will safeguard all habitats affected by our operations and will protect open spaces and wilderness, while preserving biodiversity.
- Sustainable Use of Natural Resources
We will make sustainable use of renewable natural resources, such as water, soils and forests. We will conserve non-renewable natural resources through efficient use and careful planning.
- Reduction and Disposal of Wastes
We will reduce and where possible eliminate waste through source reduction and recycling. All waste will be handled and disposed of through safe and responsible methods.
- Energy Conservation
We will conserve energy and improve the energy efficiency of our internal operations and of the goods and services we sell. We will make every effort to use environmentally safe and sustainable energy sources.
- Risk Reduction
We will strive to minimize the environmental, health and safety risks to our employees and the communities in which we operate through safe technologies, facilities and operating procedures, and by being prepared for emergencies.
- Safe Products and Services
We will reduce and where possible eliminate the use, manufacture or sale of products and services that cause environmental damage or health or safety hazards. We will inform our customers of the environmental impacts of our products or services and try to correct unsafe use.
- Environmental Restoration
We will promptly and responsibly correct conditions we have caused that endanger health, safety or the environment. To the extent feasible, we will redress injuries we have caused to persons or damage we have caused to the environment and will restore the environment.
- Informing the Public
We will inform in a timely manner everyone who may be affected by conditions caused by our company that might endanger health, safety or the environment. We will regularly seek advice and counsel through dialogue with persons in communities near our facilities. We will not take any action against employees for reporting dangerous incidents or conditions to management or to appropriate authorities.
- Management Commitment
We will implement these Principles and sustain a process that ensures that the Board of Directors and Chief Executive Officer are fully informed about pertinent environmental issues and are fully responsible for environmental policy. In selecting our Board of Directors, we will consider demonstrated environmental commitment as a factor.
- Audits and Reports
We will conduct an annual self-evaluation of our progress in implementing these Principles. We will support the timely creation of generally accepted environmental audit procedures. We will annually complete the Ceres Report, which will be made available to the public.
Disclaimer
These principles establish an environmental ethic with criteria by which assess the environmental performance of companies. Companies that endorse these principles pledge to go voluntarily beyond the requirements of the law. The terms “may” and “might” in principles one and eight are not meant to encompass every imaginable consequence, no matter how remote. Rather, these principles obligate endorsers to behave as prudent persons who are not governed by conflicting interests and who possess a strong commitment to environmental excellence and to human health and safety. These principles are not intended to create new legal liabilities, expand existing rights or obligations, waive legal defenses, or otherwise affect the legal position of any endorsing company, and are not intended to be used against an endorser in any legal proceeding for any purpose.
Appendix B: The Global Sullivan Principles
The Preamble
The objectives of the Global Sullivan Principles are to support economic, social and political justice by companies where they do business; to support human rights and to encourage equal opportunity at all levels of employment, including racial and gender diversity on decision making committees and boards; to train and advance disadvantaged workers for technical, supervisory and management opportunities; and to assist with greater tolerance and understanding among peoples; thereby, helping to improve the quality of life for communities, workers and children with dignity and equality.
I urge companies large and small in every part of the world to support and follow the Global Sullivan Principles of corporate social responsibility wherever they have operations.
The Reverend Leon H. Sullivan
The Principles
As a company which endorses the Global Sullivan Principles we will respect the law, and as a responsible member of society we will apply these Principles with integrity consistent with the legitimate role of business. We will develop and implement company policies, procedures, training and internal reporting structures to ensure commitment to these principles throughout our organization. We believe the application of these Principles will achieve greater tolerance and better understanding among peoples, and advance the culture of peace.
Accordingly, we will:
Express our support for universal human rights and, particularly, those of our employees, the communities within which we operate, and parties with whom we do business.
Promote equal opportunity for our employees at all levels of the company with respect to issues such as color, race, gender, age, ethnicity or religious beliefs, and operate without unacceptable worker treatment such as the exploitation of children, physical punishment, female abuse, involuntary servitude, or other forms of abuse.
Respect our employees' voluntary freedom of association.
Compensate our employees to enable them to meet at least their basic needs and provide the opportunity to improve their skill and capability in order to raise their social and economic opportunities.
Provide a safe and healthy workplace; protect human health and the environment; and promote sustainable development.
Promote fair competition including respect for intellectual and other property rights, and not offer, pay or accept bribes.
Work with government and communities in which we do business to improve the quality of life in those communities—their educational, cultural, economic and social well-being—and seek to provide training and opportunities for workers from disadvantaged backgrounds.
Promote the application of these principles by those with whom we do business.
We will be transparent in our implementation of these principles and provide information which demonstrates publicly our commitment to them.
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